The New Estate-Planning Environment

Adverse Changes

It is important to note that while most or all media attention focused on the potential drop of the gift and estate tax exemption to $1 million and the increase in the rate to 55%, there were other even more adverse changes that the wealthy feared might occur in 2013. A few of these are important to note because they did influence how many of the large 2012 transfers were made.

Discounts

Valuation discounts may have been restricted or eliminated. In a nutshell, these discounts permit the valuation of a non-controlling interest in an entity to be transferred at a value less than the proportionate value. So a 30% interest in a limited liability company (LLC) would be valued at much less than 30% of the value of LLC's property or aggregate value. The impact of this was that many wealthy clients transferred discounted interests in entities to trusts in 2012 to lock in discounts before they were changed. While they were not changed at the beginning of the year, it is possible that future legislation may restrict them. Future divorce cases are far more likely than ever before to have to contend with shareholders, partners and members that are irrevocable trusts.

Generation Skipping Transfer

Allocation of generation skipping transfer (GST) tax exemption may have changed. In very simplistic terms, if a client transfers assets to grandchildren (skip persons in tax jargon, or trusts for them) a second tax in addition to the gift or estate tax may be assessed once the exemption is exceeded. The exemption was $5,120,000 in 2012 ($5 million as inflation adjusted). This figure was slated to drop precipitously to $1 million inflation adjusted in 2013. Just as significantly, President Obama has proposed limiting the duration for which transfers to trusts can be removed from the tax system by an allocation of the GST exemption to 90 years. Before that legislation may be enacted, it is possible to allocate GST exemption to protect assets transferred to a trust formed in a jurisdiction that does not limit the duration of trusts (or has a very long period) so that assets could conceivably grow in that trust free of gift, estate or GST tax forever. The combination of these two adverse changes motivated astute wealthy taxpayers to make 2012 transfers to trusts that would continue for long durations or in perpetuity.

Grantor Trusts

This complex tax concept was likely never discussed outside publications targeted to the estate planning professional, yet it was ' and so far remains (although future legislation may change this) ' the most powerful wealth-shifting mechanism for the wealthy. President Obama, seeking to have wealthy taxpayers bear a greater share of the tax burden, proposed eliminating this benefit by having grantor trusts formed, or funded, after the date of restrictive legislation, included in the grantor's estate. Fearing this restriction and the resulting strangulation of some of the most powerful planning techniques, wealthy taxpayers by the droves formed and funded grantor trusts in 2012.

Why are these types of trusts so powerful? First, the income earned by a grantor trust is taxed to the client/grantor. This is a tremendously powerful leveraging tool. Over the years, income can accrue inside the trust while the client's estate is diminished by the payment of the income taxes on income the client does not have. If the ex-spouse is a beneficiary of the grantor trust, the marital estate could be reduced year by year as the assets in the trust increase. While this may raise issues as to whether marital property was used to pay the income tax on a trust for which one spouse was not the beneficiary, extracting funds from the trust to address that may be far more difficult than ever before (see “DAPT Jurisdictions” below).

The second application of grantor trusts for the very wealthy client is even more substantial. Once a trust is formed and funded with perhaps $5 million in gifts, the client could sell interests in a family business to the trust, worth perhaps $50 million. These discounted business interests could appreciate inside the trust while the low interest note that the client received in exchange may be a difficult marital asset to address in a divorce. These notes bore interest at the very low rates that existed in 2012. If, in a later divorce, such a note were divided, the interest the spouse would receive might be quite insignificant relative to what future interest rates will be. There are a number of significant aspects to this planning in divorce matters. Substantial assets were transferred to these trusts in 2012 to capture these benefits before their possible repeal (which as of April 2013 had not happened). Thus, as noted above, matrimonial practitioners will likely face “marital” estates with a substantial portion of the wealth held in irrevocable grantor trusts.

There is a flip side to this planning. The grantor trust status could prove to be the proverbial double-edged sword. While one side was a great estate-planning tool, in a divorce scenario, the continuation of grantor trust status in some cases could result in one ex-spouse paying income taxes on income inuring to the benefit of the other ex-spouse. Any matrimonial matter that includes a trust should first have an estate-planning expert evaluate the trust, ascertain its tax status, and if the trust is a grantor trust, determine when and how that status may end. If your client will bear an income tax cost on income he or she cannot control or perhaps not even benefit from, that should be factored into the negotiations. The continuation or termination of grantor trust status will be a key issue in many divorces.

One final point. Many trusts achieve grantor trust status by giving the client/grantor the right to swap assets of the trust. So never assume without investigation what assets are actually owned by the trust. The old presumption of assuming what was reported on Schedule A or reflected on the last tax return is still in the trust, could be mistaken.

Domestic Asset Protection Trust (DAPT) Jurisdictions

For many wealthy clients, the above factors resulted in transfers being made to irrevocable trusts formed in the four most trust-friendly states: Alaska, Delaware, Nevada and South Dakota. In order for a client domiciled in another state to form a trust in one of these jurisdictions, an institutional trustee had to be ' or generally was ' named. Future matrimonial actions will likely have to contend, to a dramatically greater degree than ever before, with trusts in these jurisdictions. This will not only present logistical and choice of law issues, but these jurisdictions will likely have more divorce-protective rules for trusts than the client's home state. Further, institutional trustees will rarely manage trusts in the haphazard manner ignoring trust terms and formalities that most family trustees commonly do. Thus, the mistakes that have often helped either unravel family trusts or at least negotiate better settlements may all be absent. The challenges will prove substantial to ex-spouses seeking any benefit from these transfers.

The Range of 2012 Transfers

The simplest 2012 transfers were mere outright gifts of assets or business interests from parents or other benefactors to their children or other heirs. These may have been accomplished by writing checks, transferring securities or assigning interests in entities. The problem with these types of transfers is that they would be exposed to taxes, creditors and divorce in the hands of the heirs. While this may not constitute prudent planning, some wealthy clients did it simply to avoid the costs and/or complexity of transfers into irrevocable trusts.'

More significant transfers that were better planned were made to irrevocable trusts. While there are undoubtedly more than 50 shades of variation in all the trusts that were used, most might be classified into one of the common broad categories below. The following explains in general terms some of the common 2012 trust variations and some of the impact each might have to a future matrimonial action. Bear in mind that different estate planners might use different names for these trusts. The goal is to illustrate the general concepts and how they might affect future divorce actions.

Dynasty Trust

Most 2012 trusts should have been irrevocable, grantor, and dynastic in nature, meaning they would continue for a long period of time to maximize tax and other benefits. However, this category of trusts is described typically to include only children and other descendants as beneficiaries. Thus, neither the client/grantor nor spouse were made beneficiaries of these trusts. While in most instances this type of irrevocable trust should have been used only by the wealthiest taxpayers that would never need access to the assets in the trust, in some instances aggressive or inexperienced practitioners established purely dynastic trusts when it really may not have been advisable for the clients. In any event, when faced with irrevocable transfers to these types of trusts, unless the trust itself can be pierced, benefits may only be available to the children of the marriage, not to either spouse.

Spousal Lifetime Access Trust (SLAT)

This type of trust can be illustrated in the following simplistic manner. The husband sets up an irrevocable, grantor, dynastic trust for the wife and children, and all future descendants. The husband is not a beneficiary of the trust. Because the trust was established as a grantor trust, the husband (and since a joint return is likely filed during marriage, both spouses on a joint return) would report all trust income and pay the income tax. If the wife needed distributions they could be made to her, but typically, these were discouraged to avoid any implication of an “arrangement” between the trustee and the wife as to distributions, and to maximize the assets inside the protective envelope of the trust. If a divorce occurs, a range of issues would have to be addressed and considered. Who is the trustee of the trust? If the trustee is a family member or other friend/confidant of the husband, can a resignation be negotiated as part of the settlement?

SLAT with Broad Limited Power of Appointment

This type of trust can be illustrated in the following simplistic manner. Again, the husband sets up an irrevocable, grantor, dynastic trust for the wife and children, and all future descendants. The unspoken word is that while the wife is alive, the husband indirectly benefits from the trust, since the wife can receive distributions and use them in a manner that benefits both of them. For example, if the wife has the SLAT buy a vacation home, the husband would have use of the home as a result of his marital relationship.

What if the wife predeceases the husband? The husband might be out of luck. A technique that might appear in some SLATs would be to grant the wife a testamentary power of appointment. This is a right to designate who can enjoy the property after her death. If the power of appointment is appropriate, limiting this right will not cause the SLAT assets to be included in the wife's estate. If the power is as broad as can be (generally speaking, the wife could appoint to a class of persons excluding her creditors, the creditors of her estate and her estate) it will not cause SLAT assets to be included in her estate, but it will arguably permit her to appoint the assets back to the husband in a trust that will not cause estate inclusion for him. Since the trust was initially formed by the husband, the trust probably had to be formed in a state that permits self-settled trusts. As mentioned above, the four most popular are Alaska, Delaware, Nevada and South Dakota.

And what does all this mean to the matrimonial practitioner? If the power of appointment is not exercised to protect the husband, he may lose out on access to substantial marital assets. Thus, the nuances of each such trust must be first understood, and then to the extent feasible, addressed.

Non-Reciprocal SLAT

This concept can be illustrated by a simple example. The concern many wealthy clients had with a SLAT was that if, continuing the above example, the couple divorced, or the wife predeceased the husband and the limited power of appointment technique was not used, how would the husband access assets? The solution for some couples was for each of the spouses to establish a trust for the other. However, if this was done, the trusts could not be mirror images of each other. Otherwise, the IRS could unravel the trusts and cause each spouse's trust to be included in his or her estate, thus defeating the entire tax plan. The result in many instances was for the estate planner to draft intentional differences into each SLAT.

Thus, great care should be taken in reviewing the dual SLATs to identify each difference. These will often include differences in powers of appointment (the right to appoint or designated who will enjoy the property either during the spouse/power-holder's lifetime or at death). Care should be taken to ascertain if agreements as to how these powers might be exercised should be negotiated. Other differences should also be factored into the settlement negotiations. Practitioners confronting non-reciprocal SLATs, who assume reviewing one trust means they understand the other trust as well, could shortchange their client in a material way.

DAPTs

In many instances, clients were unwilling to make large irrevocable transfers if they could not be beneficiaries of the trust. Since most state laws will not permit self-settled trusts, these trusts had to be formed in jurisdictions that permit them, e.g, the four most popular noted above. Since both spouses may be beneficiaries of such a trust, it may be feasible to divide the trust and perhaps have each spouse forfeit his/her rights in one of the divided trusts. This raises a host of potential issues, but it may afford some leeway toward resolving the matrimonial settlement. Bear in mind that most such trusts named institutional trustees with broad discretion to make (or not make) distributions.

Many of these trusts were more sophisticated than the typical trusts with which most matrimonial practitioners are familiar. Many have more than just a “trustee.” For example, it has grown more common for wealthy taxpayers to name a trust investment adviser, who can control trust investments; a trust protector, who may have a range of authority (depending on the preferences of the draftsperson); a loan director, who could make loans of trust assets to the grantor without adequate security (to further secure the coveted grantor trust status discussed above), and even a separate distribution committee. Matrimonial practitioners, who are not versed in these concepts, would be advised to have all these relationships and relevant trust provisions reviewed and explained, because each may have its own relevance to the divorce process. For example, it may be desirable to negotiate limitations on these persons, or even resignations from some that are particularly undesirable.

Another potential landmine is the definition of spouse in many of these sophisticated 2012 trusts. Some of these trusts did not name a particular spouse, but used a convention often referred to as a “floating spouse clause.” Using this approach, whoever the client happens to be married to at a particular time would be the spousal beneficiary of the trust. Missing this definition could have a client assume he or she remains a beneficiary of a large trust, when in fact, as soon as the marriage terminates, that status also terminates.

An additional common drafting technique for these trusts should be noted. It was common in the past to provide that distributions could be made, even by a spouse who is co-trustee, to maintain that spouse's standard of living (ascertainable standard in tax jargon). However, this approach has begun to give way to more modern drafting concepts, which, due to the size of' many 2012 transfers, will more often be used in the 2012 trust agreements practitioners confront. This approach is to name an independent trustee and grant a purely discretionary distribution standard, which eliminates any ascertainable interest in the trust to attack in a matrimonial action.

An issue matrimonial practitioners may face in the near term is arguing that the 2012 transfers were pre-divorce planning and that they should be set aside or at least evaluated in that light. The problem with this argument for 2012 transfers may be different from any other year. The reality was that the last quarter of 2012 was a veritable estate-planning feeding frenzy as wealthy taxpayers sought to lock in the benefits discussed above before the law changed. Once President Obama was re-elected, that feeding frenzy grew into an outright panic. Many estate planners completed more transfers in the last six weeks of 2012 than in most prior years. Thus, to argue that a late 2012 transfer was a pre-divorce planning maneuver may be unusually difficult. So many wealthy people were making transfers that it is hard to imagine how the common estate tax planning motive could be disproved.

Risks and Issues with 2012 Transfers

While a host of issues were raised above in the discussions of 2012 planning, there are myriad other issues that might affect a post-2012 matrimonial action. Consider the following:

Gift-splitting

If one spouse makes gifts to a trust for which neither spouse is a beneficiary, the spouses can elect to divide or “split” the gifts on the 2012 gift tax returns. This would attribute half of the gift to each spouse. While there are a host of planning issues this might entail, an important implication for matrimonial practitioners is that if the non-donor spouse gift-splits, that spouse would have to file a 2012 gift tax return. Once that return is signed, that non-donor gift-splitting spouse would be hard-pressed to deny he or she understood or agreed to the transfer if he or she signed a gift tax return expressly agreeing to it. This is most likely to occur with dynastic trusts defined above or outright gifts.

Estate-Planning Engagement Letters

In attempting to evaluate what happened in the melee of 2012 gift-giving, review the engagement letters that were signed. If your client claims he or she did not understand or was not informed of the transfers, did he or she sign an engagement letter agreeing to the planning?

Spousal Waivers

Some estate planners routinely had spouses waive any rights or claims they might have to the assets transferred to a trust. Be certain to inquire as part of the initial document collection if such a waiver existed and whether or not it was signed.

Swap Power Abuse

A common means of securing the coveted grantor trust status discussed above was to include in the trust document the right of the grantor to swap or exchange trust assets for other assets of equivalent value. This could give the grantor spouse the right to swap in cash for the business interests or other assets the trust holds. This could be a useful technique to remove assets from the trust that are desired to settle the matrimonial action. It could also be used proactively in a manner to change the composition of trust assets that may have been presumed in the divorce negotiations. Again, the typical sophisticated 2012 trust may be very different from the simplistic trusts that had been so common. The size and volume of 2012 transfers as compared with transfers many wealthy clients made in prior years often justified this additional sophistication. Be certain to understand all aspects of any trust that might be involved to avoid unpleasant surprises.

ATRA

On Jan. 1, 2013, Congress enacted the American Taxpayer Relief Act of 2012 (ATRA).' This will be discussed in an upcoming issue.

Martin M. Shenkman, CPA, MBA, PFS, AEP, JD, a member of this newsletter's Board of Editors, is an attorney in private practice in Paramus, NJ, and New York City.

'

Two recent events have dramatically changed the face of estate planning and each will have a significant impact on divorces for years ' likely decades ' in the future. This article explores each of these two factors, identifies some of the changes relevant to matrimonial practitioners, and suggests practical steps that might be taken to address them.

2012 Gift Transfers Will Affect Matrimonial Cases

In 2012, wealthy Americans by the droves made gifts, often to irrevocable trusts, to lock some or all of the $5.12 million gift tax exemption that most feared would disappear in 2013. While the exemption was not reduced, the massive gift transfers that occurred in the last portion of 2012 will have a significant impact on matrimonial cases for years to come. As one informal measure of the wealth transferred, it has been estimated that in excess of 500,000 gift tax returns were filed for 2012, which is a dramatic increase over prior years. This article describes the range of planning and focuses on how to plan better, as matrimonial practitioners will likely have to evaluate these plans in future divorce cases. Then, some of the implications for matrimonial practitioners are discussed.

Adverse Changes

It is important to note that while most or all media attention focused on the potential drop of the gift and estate tax exemption to $1 million and the increase in the rate to 55%, there were other even more adverse changes that the wealthy feared might occur in 2013. A few of these are important to note because they did influence how many of the large 2012 transfers were made.

Discounts

Valuation discounts may have been restricted or eliminated. In a nutshell, these discounts permit the valuation of a non-controlling interest in an entity to be transferred at a value less than the proportionate value. So a 30% interest in a limited liability company (LLC) would be valued at much less than 30% of the value of LLC's property or aggregate value. The impact of this was that many wealthy clients transferred discounted interests in entities to trusts in 2012 to lock in discounts before they were changed. While they were not changed at the beginning of the year, it is possible that future legislation may restrict them. Future divorce cases are far more likely than ever before to have to contend with shareholders, partners and members that are irrevocable trusts.

Generation Skipping Transfer

Allocation of generation skipping transfer (GST) tax exemption may have changed. In very simplistic terms, if a client transfers assets to grandchildren (skip persons in tax jargon, or trusts for them) a second tax in addition to the gift or estate tax may be assessed once the exemption is exceeded. The exemption was $5,120,000 in 2012 ($5 million as inflation adjusted). This figure was slated to drop precipitously to $1 million inflation adjusted in 2013. Just as significantly, President Obama has proposed limiting the duration for which transfers to trusts can be removed from the tax system by an allocation of the GST exemption to 90 years. Before that legislation may be enacted, it is possible to allocate GST exemption to protect assets transferred to a trust formed in a jurisdiction that does not limit the duration of trusts (or has a very long period) so that assets could conceivably grow in that trust free of gift, estate or GST tax forever. The combination of these two adverse changes motivated astute wealthy taxpayers to make 2012 transfers to trusts that would continue for long durations or in perpetuity.

Grantor Trusts

This complex tax concept was likely never discussed outside publications targeted to the estate planning professional, yet it was ' and so far remains (although future legislation may change this) ' the most powerful wealth-shifting mechanism for the wealthy. President Obama, seeking to have wealthy taxpayers bear a greater share of the tax burden, proposed eliminating this benefit by having grantor trusts formed, or funded, after the date of restrictive legislation, included in the grantor's estate. Fearing this restriction and the resulting strangulation of some of the most powerful planning techniques, wealthy taxpayers by the droves formed and funded grantor trusts in 2012.

Why are these types of trusts so powerful? First, the income earned by a grantor trust is taxed to the client/grantor. This is a tremendously powerful leveraging tool. Over the years, income can accrue inside the trust while the client's estate is diminished by the payment of the income taxes on income the client does not have. If the ex-spouse is a beneficiary of the grantor trust, the marital estate could be reduced year by year as the assets in the trust increase. While this may raise issues as to whether marital property was used to pay the income tax on a trust for which one spouse was not the beneficiary, extracting funds from the trust to address that may be far more difficult than ever before (see “DAPT Jurisdictions” below).

The second application of grantor trusts for the very wealthy client is even more substantial. Once a trust is formed and funded with perhaps $5 million in gifts, the client could sell interests in a family business to the trust, worth perhaps $50 million. These discounted business interests could appreciate inside the trust while the low interest note that the client received in exchange may be a difficult marital asset to address in a divorce. These notes bore interest at the very low rates that existed in 2012. If, in a later divorce, such a note were divided, the interest the spouse would receive might be quite insignificant relative to what future interest rates will be. There are a number of significant aspects to this planning in divorce matters. Substantial assets were transferred to these trusts in 2012 to capture these benefits before their possible repeal (which as of April 2013 had not happened). Thus, as noted above, matrimonial practitioners will likely face “marital” estates with a substantial portion of the wealth held in irrevocable grantor trusts.

There is a flip side to this planning. The grantor trust status could prove to be the proverbial double-edged sword. While one side was a great estate-planning tool, in a divorce scenario, the continuation of grantor trust status in some cases could result in one ex-spouse paying income taxes on income inuring to the benefit of the other ex-spouse. Any matrimonial matter that includes a trust should first have an estate-planning expert evaluate the trust, ascertain its tax status, and if the trust is a grantor trust, determine when and how that status may end. If your client will bear an income tax cost on income he or she cannot control or perhaps not even benefit from, that should be factored into the negotiations. The continuation or termination of grantor trust status will be a key issue in many divorces.

One final point. Many trusts achieve grantor trust status by giving the client/grantor the right to swap assets of the trust. So never assume without investigation what assets are actually owned by the trust. The old presumption of assuming what was reported on Schedule A or reflected on the last tax return is still in the trust, could be mistaken.

Domestic Asset Protection Trust (DAPT) Jurisdictions

For many wealthy clients, the above factors resulted in transfers being made to irrevocable trusts formed in the four most trust-friendly states: Alaska, Delaware, Nevada and South Dakota. In order for a client domiciled in another state to form a trust in one of these jurisdictions, an institutional trustee had to be ' or generally was ' named. Future matrimonial actions will likely have to contend, to a dramatically greater degree than ever before, with trusts in these jurisdictions. This will not only present logistical and choice of law issues, but these jurisdictions will likely have more divorce-protective rules for trusts than the client's home state. Further, institutional trustees will rarely manage trusts in the haphazard manner ignoring trust terms and formalities that most family trustees commonly do. Thus, the mistakes that have often helped either unravel family trusts or at least negotiate better settlements may all be absent. The challenges will prove substantial to ex-spouses seeking any benefit from these transfers.

The Range of 2012 Transfers

The simplest 2012 transfers were mere outright gifts of assets or business interests from parents or other benefactors to their children or other heirs. These may have been accomplished by writing checks, transferring securities or assigning interests in entities. The problem with these types of transfers is that they would be exposed to taxes, creditors and divorce in the hands of the heirs. While this may not constitute prudent planning, some wealthy clients did it simply to avoid the costs and/or complexity of transfers into irrevocable trusts.'

More significant transfers that were better planned were made to irrevocable trusts. While there are undoubtedly more than 50 shades of variation in all the trusts that were used, most might be classified into one of the common broad categories below. The following explains in general terms some of the common 2012 trust variations and some of the impact each might have to a future matrimonial action. Bear in mind that different estate planners might use different names for these trusts. The goal is to illustrate the general concepts and how they might affect future divorce actions.

Dynasty Trust

Most 2012 trusts should have been irrevocable, grantor, and dynastic in nature, meaning they would continue for a long period of time to maximize tax and other benefits. However, this category of trusts is described typically to include only children and other descendants as beneficiaries. Thus, neither the client/grantor nor spouse were made beneficiaries of these trusts. While in most instances this type of irrevocable trust should have been used only by the wealthiest taxpayers that would never need access to the assets in the trust, in some instances aggressive or inexperienced practitioners established purely dynastic trusts when it really may not have been advisable for the clients. In any event, when faced with irrevocable transfers to these types of trusts, unless the trust itself can be pierced, benefits may only be available to the children of the marriage, not to either spouse.

Spousal Lifetime Access Trust (SLAT)

This type of trust can be illustrated in the following simplistic manner. The husband sets up an irrevocable, grantor, dynastic trust for the wife and children, and all future descendants. The husband is not a beneficiary of the trust. Because the trust was established as a grantor trust, the husband (and since a joint return is likely filed during marriage, both spouses on a joint return) would report all trust income and pay the income tax. If the wife needed distributions they could be made to her, but typically, these were discouraged to avoid any implication of an “arrangement” between the trustee and the wife as to distributions, and to maximize the assets inside the protective envelope of the trust. If a divorce occurs, a range of issues would have to be addressed and considered. Who is the trustee of the trust? If the trustee is a family member or other friend/confidant of the husband, can a resignation be negotiated as part of the settlement?

SLAT with Broad Limited Power of Appointment

This type of trust can be illustrated in the following simplistic manner. Again, the husband sets up an irrevocable, grantor, dynastic trust for the wife and children, and all future descendants. The unspoken word is that while the wife is alive, the husband indirectly benefits from the trust, since the wife can receive distributions and use them in a manner that benefits both of them. For example, if the wife has the SLAT buy a vacation home, the husband would have use of the home as a result of his marital relationship.

What if the wife predeceases the husband? The husband might be out of luck. A technique that might appear in some SLATs would be to grant the wife a testamentary power of appointment. This is a right to designate who can enjoy the property after her death. If the power of appointment is appropriate, limiting this right will not cause the SLAT assets to be included in the wife's estate. If the power is as broad as can be (generally speaking, the wife could appoint to a class of persons excluding her creditors, the creditors of her estate and her estate) it will not cause SLAT assets to be included in her estate, but it will arguably permit her to appoint the assets back to the husband in a trust that will not cause estate inclusion for him. Since the trust was initially formed by the husband, the trust probably had to be formed in a state that permits self-settled trusts. As mentioned above, the four most popular are Alaska, Delaware, Nevada and South Dakota.

And what does all this mean to the matrimonial practitioner? If the power of appointment is not exercised to protect the husband, he may lose out on access to substantial marital assets. Thus, the nuances of each such trust must be first understood, and then to the extent feasible, addressed.

Non-Reciprocal SLAT

This concept can be illustrated by a simple example. The concern many wealthy clients had with a SLAT was that if, continuing the above example, the couple divorced, or the wife predeceased the husband and the limited power of appointment technique was not used, how would the husband access assets? The solution for some couples was for each of the spouses to establish a trust for the other. However, if this was done, the trusts could not be mirror images of each other. Otherwise, the IRS could unravel the trusts and cause each spouse's trust to be included in his or her estate, thus defeating the entire tax plan. The result in many instances was for the estate planner to draft intentional differences into each SLAT.

Thus, great care should be taken in reviewing the dual SLATs to identify each difference. These will often include differences in powers of appointment (the right to appoint or designated who will enjoy the property either during the spouse/power-holder's lifetime or at death). Care should be taken to ascertain if agreements as to how these powers might be exercised should be negotiated. Other differences should also be factored into the settlement negotiations. Practitioners confronting non-reciprocal SLATs, who assume reviewing one trust means they understand the other trust as well, could shortchange their client in a material way.

DAPTs

In many instances, clients were unwilling to make large irrevocable transfers if they could not be beneficiaries of the trust. Since most state laws will not permit self-settled trusts, these trusts had to be formed in jurisdictions that permit them, e.g, the four most popular noted above. Since both spouses may be beneficiaries of such a trust, it may be feasible to divide the trust and perhaps have each spouse forfeit his/her rights in one of the divided trusts. This raises a host of potential issues, but it may afford some leeway toward resolving the matrimonial settlement. Bear in mind that most such trusts named institutional trustees with broad discretion to make (or not make) distributions.

Many of these trusts were more sophisticated than the typical trusts with which most matrimonial practitioners are familiar. Many have more than just a “trustee.” For example, it has grown more common for wealthy taxpayers to name a trust investment adviser, who can control trust investments; a trust protector, who may have a range of authority (depending on the preferences of the draftsperson); a loan director, who could make loans of trust assets to the grantor without adequate security (to further secure the coveted grantor trust status discussed above), and even a separate distribution committee. Matrimonial practitioners, who are not versed in these concepts, would be advised to have all these relationships and relevant trust provisions reviewed and explained, because each may have its own relevance to the divorce process. For example, it may be desirable to negotiate limitations on these persons, or even resignations from some that are particularly undesirable.

Another potential landmine is the definition of spouse in many of these sophisticated 2012 trusts. Some of these trusts did not name a particular spouse, but used a convention often referred to as a “floating spouse clause.” Using this approach, whoever the client happens to be married to at a particular time would be the spousal beneficiary of the trust. Missing this definition could have a client assume he or she remains a beneficiary of a large trust, when in fact, as soon as the marriage terminates, that status also terminates.

An additional common drafting technique for these trusts should be noted. It was common in the past to provide that distributions could be made, even by a spouse who is co-trustee, to maintain that spouse's standard of living (ascertainable standard in tax jargon). However, this approach has begun to give way to more modern drafting concepts, which, due to the size of' many 2012 transfers, will more often be used in the 2012 trust agreements practitioners confront. This approach is to name an independent trustee and grant a purely discretionary distribution standard, which eliminates any ascertainable interest in the trust to attack in a matrimonial action.

An issue matrimonial practitioners may face in the near term is arguing that the 2012 transfers were pre-divorce planning and that they should be set aside or at least evaluated in that light. The problem with this argument for 2012 transfers may be different from any other year. The reality was that the last quarter of 2012 was a veritable estate-planning feeding frenzy as wealthy taxpayers sought to lock in the benefits discussed above before the law changed. Once President Obama was re-elected, that feeding frenzy grew into an outright panic. Many estate planners completed more transfers in the last six weeks of 2012 than in most prior years. Thus, to argue that a late 2012 transfer was a pre-divorce planning maneuver may be unusually difficult. So many wealthy people were making transfers that it is hard to imagine how the common estate tax planning motive could be disproved.

Risks and Issues with 2012 Transfers

While a host of issues were raised above in the discussions of 2012 planning, there are myriad other issues that might affect a post-2012 matrimonial action. Consider the following:

Gift-splitting

If one spouse makes gifts to a trust for which neither spouse is a beneficiary, the spouses can elect to divide or “split” the gifts on the 2012 gift tax returns. This would attribute half of the gift to each spouse. While there are a host of planning issues this might entail, an important implication for matrimonial practitioners is that if the non-donor spouse gift-splits, that spouse would have to file a 2012 gift tax return. Once that return is signed, that non-donor gift-splitting spouse would be hard-pressed to deny he or she understood or agreed to the transfer if he or she signed a gift tax return expressly agreeing to it. This is most likely to occur with dynastic trusts defined above or outright gifts.

Estate-Planning Engagement Letters

In attempting to evaluate what happened in the melee of 2012 gift-giving, review the engagement letters that were signed. If your client claims he or she did not understand or was not informed of the transfers, did he or she sign an engagement letter agreeing to the planning?

Spousal Waivers

Some estate planners routinely had spouses waive any rights or claims they might have to the assets transferred to a trust. Be certain to inquire as part of the initial document collection if such a waiver existed and whether or not it was signed.

Swap Power Abuse

A common means of securing the coveted grantor trust status discussed above was to include in the trust document the right of the grantor to swap or exchange trust assets for other assets of equivalent value. This could give the grantor spouse the right to swap in cash for the business interests or other assets the trust holds. This could be a useful technique to remove assets from the trust that are desired to settle the matrimonial action. It could also be used proactively in a manner to change the composition of trust assets that may have been presumed in the divorce negotiations. Again, the typical sophisticated 2012 trust may be very different from the simplistic trusts that had been so common. The size and volume of 2012 transfers as compared with transfers many wealthy clients made in prior years often justified this additional sophistication. Be certain to understand all aspects of any trust that might be involved to avoid unpleasant surprises.

ATRA

On Jan. 1, 2013, Congress enacted the American Taxpayer Relief Act of 2012 (ATRA).' This will be discussed in an upcoming issue.

Martin M. Shenkman, CPA, MBA, PFS, AEP, JD, a member of this newsletter's Board of Editors, is an attorney in private practice in Paramus, NJ, and New York City.

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